The outstanding balance of wealth management products issued by Chinese banks continued to rise in the second half of 2017, despite increased regulatory scrutiny on the market since early last year, according to the latest report from Fitch Ratings.

Total wealth management product issuance rose 3 percent to 173.6 trillion yuan (US$27.7 trillion) between January and December. As of the end of last year, outstanding wealth management products increased 2 percent annually to top 29.5 trillion yuan, equivalent to around 36 percent of the country’s gross domestic product, the report said.

Fitch noted that this implied a slowing growth rate of 4 percent in the second half of 2017, and said the slowdown was “significant” compared with the annual growth of 24 percent in 2016 and a compound annual growth rate in excess of 50 percent from 2011 to 2015.

Joint-stock commercial banks continued to lead the wealth management products market, with 40.5 percent of market share, despite a 2 percent decline in their product balance at the end of 2017. City commercial banks' wealth management products balance continued to grow in 2017, rising by 7 percent.

Fitch says that the resilience of overall issuance underscores that it will be difficult for the authorities to reduce activity, given that it represents nearly 17.5 percent of system bank deposits and around 40 percent of joint stock bank deposits.

The report said that the authorities have made “some success” in reining in associated contagion and liquidity risks, in particular by engineering a noticeable 51 percent drop in inter-bank wealth management product investment from early 2017.

The incentives for banks to invest in relevant products fell considerably, as inter-bank market rates increased due to tighter liquidity as part of the regulatory clampdown, and banks that fund themselves in the inter-bank market are no longer able to make a profit by reinvesting in wealth management products.

Fitch Ratings believes that Chinese regulators are likely to “take a gradual approach” to wealth management products. The report said that a more aggressive crackdown would have the potential to disrupt financial markets and trigger disorderly deleveraging, as around 8 percent of wealth management products are invested in government and quasi-government bonds, 34 percent in financial institution and corporate bonds and 16 percent in non-standard credit assets.

The rating agency said that regulatory scrutiny on the financial sector and wealth management products, in particular, is “unlikely to ease” in 2018.

In January, the China Banking Regulatory Commission issued a notice targeting the use of off-balance-sheet funds like wealth management products to invest in the equity market and to finance property developers.

This followed draft guidance issued by the central bank last November and scheduled to come into effect in July 2019 that aims to remove the implicit guarantees that many investment products, including wealth management products, receive from issuing banks. The central bank also now includes off-balance-sheet wealth management products as part of credit in its macro-prudential assessments of banks.